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10 Cards in this Set
- Front
- Back
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The investment process |
Idea generation - Nothing ruled out, people are encouraged to come forward with ideas. A good open environment can be a significant competitive advantage Develop proposals and classify - Ideas examined in more critical detail as the data collected increases and estimates of future cash flows are refined. Many projects rejected at this stage to allow evaluation resources to be commited to more promising Screening - Filter out those who do not go forward to details project appraisal, e.g those lacjing fin benefit. Some willl be rehected because they do not fit the strategic direction of the organisation Appraisal - Detailed cash flow forecasts needed for appraisal of projects using NPV or IRR. Drawing these up will require collaboration between commerical and operational departments as wel as ginance Authorisations - The results of the evaluation techniques are presented with a qualitative terms and risk analysis. Senior executives in committee will usually make decisions on major investments but occasionally BoD will need to be consulted Implementation and capex controls - Whilst in investment phase, project is monitored to ensure delays and additional costs are established and corrective action can be taken if necessary Post completion audit - To control progress of a project, take steps as necessary, Helps future decision making. Identify flaws Psychological impact - Managers aware projects reviewed for many years after completion more committed |
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IRR |
In simple IRR project analysis the decision rule be would that: All opps with IRR above hurdle rate should be accepted for further considerations based on limited availability of further capital |
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Capital rationing |
In theory size and cost of project should not matter, in thoery all positive npvs projects should get funding however in reality there are limiting factors Soft capital rationing - Companys limits of management time Hard capital rationing - limits imposed by lenders |
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Profitability index |
Identifed projects which return highest NPV for smallest inital outlay. May be ranked if: -Divisible -Not mutually exclusive -Not repeatable NPV/co co = absolute value of initial investment |
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Payback period |
Total time beforecumulative net cash infliws from an investment are sufficient to have fully repaid the initial investment. Encourages shorttermism and would reject many projects requiring R and D Well understood by managers |
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Return on capital employed |
Acc measure for performance. It is calculated as operating proftis divided by total book value of capital employed to earn the profits. ROCE is commonly used within companies to assrss performance, albeit usually on an aggregate basis not project by project basis. lthough capital appraisal process might include ROCE it is not a reliable model when set alongside IRR and NPV. no account for time value of money, impacted by acc measures, difficu,t to use when capital invested in project is low, |
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Real vs. nominal cash flows |
Real cash flows have been adjusted to strip out inflation Nominal is more commonly used and is better because flows are normally subject to differet inflation rates |
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Taxation in project appraisal |
Two rules to follow in allowing for tax in NPV calculations are:
if undertaking results in change in tax liability then thr increental tax figures should be included in flow figures
Include the tax outflow or inflow at the right time( cashflows not tax charges)
Acdounting depreciation is not allowable as a deductible expense in the calculation of taxable profits in many jurisdictions However tax authorities do allow tax depreciation for example capital allowances and written down allowances |
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Replacement decisions |
Many businesses replace tangible assets on a tegular basis. The length of the optimum cycle depends on how the costs rise for operating and maintain the machinesand estimated value of to sell/scrap. NPV will determine best cycle length To compare projects with different lengths you can divide NPV by annuity factor. this calculates the annual euivalent annuity value (AEA). You can assume a AEA to go on forever if: There is no inflation in the price of the cost elements No major technological changes that would make buyign the particular machine irrational AEA also need to be applied to one year projects for comparison. |
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Real options |
Real options are the valuable operational choices available to owners of projects and businsses. For example, expand, contract, defer or abandon are real options *NEed to look into this* |
